June 2017 | Lessons Learned Series | 1 Lessons Learned Series Strengthening Financial Sectors NOTE 5 JUNE 2017 Challenges in Building Effective Deposit Insurance Systems in Developing Countries AUTHORS Introduction According to the World Bank deposit insurance JAN PHILIPP NOLTE The global financial crisis of 2008 heightened the need database,3 at least five countries established DISs in Senior Financial Sector for countries to strengthen their financial safety nets.1 the crisis year of 2008 alone. The database also Specialist, Finance & showed an increase in the number of countries with It especially brought to light the importance of depos- Markets Global Practice, World Bank itor confidence in the financial system and the key explicit DISs,4 from 84 in 2003 to 112 in 2013, of a role that a deposit insurance system (DIS)2 plays in total of 189 countries. According to the International MARLON RAWLINS maintaining that confidence. The crisis not only tested Association of Deposit Insurers (IADI),5 that number Financial Sector Specialist, increased further to 125 countries as of 2016 (fig- the design and capacity of existing DISs,highlighting FIRST Initiative, World the need for urgent reform, but also led to the estab- ure  1). This growth was seen globally across all Bank lishment of several new DISs. As an immediate regions and countries, irrespective of income group response to the global financial crisis of 2008, some (figure 2). Despite the impressive growth of DISs in countries responded by quickly increasing coverage recent years, certain regions, such as Africa, need to levels and some guaranteed all deposits for a limited catch up. Only 24 percent of African countries have time. Following the crisis, many countries established DISs, as shown in figure 3. new DISs, and many made significant changes to When designing a new DIS or reforming an exist- strengthen existing DISs, including revising their ing one, governments have to ensure that certain mandates to allow the DIS to finance certain resolu- preconditions for an effective deposit insurance tion actions, strengthening funding arrangements, framework are met and also need to make critical and shortening reimbursement timeframes. policy choices relating to its design, on the basis of FIGURE 1. Deposit Insurers Worldwide This map was produced by the Cartography Unit of the World Bank Group. The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of the World Bank Group, any judgment on the legal status of any territory, or any endorsement or acceptance of such boundaries. IBRD 42945 | JUNE 2017 The FIRST Lessons Learned series is a synthesis of FIRST’s experiences and lessons gained from technical assistance engagements funded by FIRST. COUNTRIES WITH DEPOSIT INSURANCE SYSTEMS (AS OF JUNE 2016) COUNTRIES WHERE FIRST INITIATIVE For more information, visit HAS FUNDED WORK IN DEPOSIT INSURANCE https://www.firstinitiative NO DEPOSIT INSURANCE SYSTEMS .org or email us at first@ Source: International Association of Deposit Insurers (http://www.iadi.org/) and FIRST Initiative website worldbank.org (https://www.firstinitiative.org). 2 | Lessons Learned Series | June 2017 FIGURE 2. Explicit Deposit Insurance by Income Group, 2013 their individual country context. Such choices will have a significant bearing on the effectiveness of the DIS. These design features 100 include, among other things, determining the (a) appropriate man- date, (b) right institutional setup, (c) level and scope of coverage, (d) 80 adequacy of funding, and (e) timeliness of depositor reimburse- ments. The global financial crisis tested and exposed the strengths and weaknesses of some of these important design features. That 60 experience has created increased demand by policy makers for sup- Percent port to reform and strengthen DIS around the world. 40 The graphic, Deposit Insurance Ecosystem, at the end of this note presents a decision tree for policy makers to establish a deposit insur- ance system as a part of the safety net. The process starts with assess- 20 ing the preconditions, then establishing the policy objectives of the DIS, followed by selecting the design features appropriate to the coun- 0 try context. The established DIS becomes a part of the then-expanded High income Upper middle income Lower middle income Low income financial sector safety net. Implicit Explicit since 2003 Explicit Support Provided by the FIRST Initiative The Financial Sector Reform and Strengthening Initiative (FIRST) is a multidonor trust fund managed by the World Bank that finances Source: Asli Demirgüç-Kunt, Edward Kane, and Luc Laeven, “Deposit Insurance Database” (Policy Research Working Paper 6934, World Bank, Washington, D.C., technical assistance aimed at strengthening financial sectors in low- 2014), https://openknowledge.worldbank.org/handle/10986/18820. and middle-income countries. FIRST has responded to the increas- ing demand for technical assistance on DIS. Over the past decade FIRST has funded 16 projects around the world that directly relate to establishing or strengthening deposit insurance.6 The technical assistance provided by FIRST covered a range of objectives, includ- ing (a)  strengthening the legal and regulatory framework of DIS, FIGURE 3. Explicit Deposit Insurance by Region, 2013 (b)  developing methodologies to set the target fund ratio, and 100 (c) supporting institutional capacity building in areas such as public awareness and depositor reimbursements. In all FIRST projects, the advice given is based on best practice and 80 the IADI Core Principles for Effective Deposit Insurance Systems (core principles).7 The core principles, which are part of the interna- 60 tional Financial Stability Board’s Key Standards for Sound Financial Systems, are designed to be adapted to a broad range of jurisdictional Percent settings and structures. The World Bank and the FIRST Initiative 40 always take into account a country’s unique circumstances—such as institutional capacity, level of development, and the complexity of the 20 financial sector—to determine a solution that best fits the country’s needs. In addition, FIRST has funded many projects related to strength- 0 ening other elements of the financial safety net, such as bank supervi- Africa Asia-Paci c Europe Middle East Western and Central Asia hemisphere sion, bank resolution, emergency liquidity frameworks, and coordination of financial safety net members in contingency planning Implicit Explicit since 2003 Explicit and crisis management frameworks. Source: Asli Demirgüç-Kunt, Edward Kane, and Luc Laeven, “Deposit Insurance Lessons Learned Database” (Policy Research Working Paper 6934, World Bank, Washington, D.C., After a decade of FIRST-funded DIS projects led by the Finance and 2014), https://openknowledge.worldbank.org/handle/10986/18820. Markets Global Practice at the World Bank, several key lessons have been learned. This paper addresses some of the most important les- sons learned and some of the key challenges in developing countries (figure 4). June 2017 | Lessons Learned Series | 3 FIGURE 4. Key Lessons in Deposit Insurance Systems FIGURE 5. Preconditions for a Deposit Insurance System • Deposity insurance is not a “cure” for weak banks. Stable macroeconomic environment 1 • A DIS is only as strong as the safety net in which it operates. Sound and healthy banking system 2 • Mandates of other safety net members should not be duplicated. 3 Strong prudential regulation and supervision • Operational independence is more important than institutional independence. 4 E ective bank resolution framework • An e ective deposit insurance system is not free. 5 Well-developed legal framework and accounting and disclosure regime • Preparing for payout is no small task. 6 • The framework should not be static and should be subject to regular reviews. 7 sound back-up financing. Understanding the importance of meeting the preconditions for the success of a DIS, FIRST technical assistance has included as a first step an assessment of the existence of the pre- conditions to better understand the operating environment of the future DIS. Lesson 1: Deposit insurance is not a “cure” for weak For example, FIRST supported the Palestinian Monetary Authority banks. in conducting a feasibility assessment. FIRST then drafted a prelimi- A DIS can be successful only when certain preconditions have been nary design of a DIS and an implementation plan. The study high- fulfilled. These preconditions include (a) a stable macroeconomic lighted the preconditions that needed to be improved before environment; (b) a sound and healthy banking system; (c) strong pru- establishing the DIS. Those included amending the banking law to dential regulation and supervision; (d) an effective bank resolution create an effective bank resolution framework and improving bank framework; and (e) a well-developed legal framework with efficient supervision and bank disclosure practices. On the basis of the study, courts and procedures along with a strong accounting and disclosure the authorities decided to embark on the implementation of a DIS. regime (figure 5). A deposit insurance framework is not a “cure” for They secured a US$3.6 million technical assistance grant from the weak banks. In fact, introducing a scheme during a crisis or when the World Bank to support, inter alia, the establishment of the DIS, preconditions are not yet in place can create a huge liability when including support for drafting the legal framework. improperly supervised banks fail. Additionally, in the absence of effective bank resolution tools, poor enforcement can trigger the need Lesson 2: A DIS is only as strong as the safety net in for backup funding from the government. This scenario can threaten which it operates. overall financial stability, destroy public funds, and hamper economic One of the most important preconditions for setting up a DIS is the development. existence of a robust financial sector safety net that supports financial In some countries, the establishment of a DIS is used as a policy stability and reduces the risk of severe financial crises. A financial response to address a weak financial sector or a tool to address a safety net usually includes the functions of prudential regulation and looming crisis or to boost depositors’ confidence in the banking sys- supervision, a lender of last resort, a bank resolution framework, and tem. Thus, deposit insurance may be introduced before the necessary deposit insurance. A DIS is not intended to deal with, by itself, sys- cleanup of the financial sector has been undertaken or before other temically significant bank failures or a systemic crisis. To function aspects of the safety net have been strengthened. As a result, moral effectively, the overall safety net must include well-established ele- hazard is likely to increase as bank clients tend to reduce their vigi- ments that work efficiently together (figure 6). For example, a strong lance, thereby allowing banks to engage in excessive risk taking. In and effective supervisory system can prevent bank failure by allowing such cases, the authorities need to first implement a reform program early detection and supervisory intervention in problem banks, fol- to get all the missing conditions in place. Working in parallel on lowed by the use of recovery measures or enforcement tools. reforming the operating environment while building the DIS may be Similarly, a bank resolution framework may provide for more an ambitious agenda for emerging markets in particular, due to capac- cost-effective resolution measures than the closure of a bank followed ity constraints. Secondly, a DIS then needs to be designed in a way to by a DIS payout. FIRST has financed technical assistance in many compensate for these other weaknesses in the system. For example, if countries geared toward strengthening individual elements of their there are weak banks, a DIS should have substantial resources and safety net. Such assistance includes strengthening of resolution 4 | Lessons Learned Series | June 2017 FIGURE 6. Parts of the Financial Safety Net vulnerabilities, and risks to the stability of the financial sector; and (c) recommendations of measures to manage systemic crises. Prudential regulation and supervision Lesson 3: Mandates of other safety net members should not be duplicated. Deposit insurance systems can be established using various recog- nized mandates. Mandates can range from narrow “pay box” systems Bank resolution that are limited to the reimbursement of insured deposits to systems Deposit insurance with more extensive responsibilities for resolution or supervision. The mandates can be broadly classified into pay box, pay box plus, loss minimizing, and risk minimizing.8 No single mandate is superior to another. The mandate should be selected on the basis of country Lender of last resort circumstances and in consultation with the other financial safety net participants. In several countries, the initial policy dialogue on the mandate starts with policy makers aspiring to have larger mandates Source: International Association of Deposit Insurers, “The IADI Core Principles for with more power rather than less. However, it is important to stress Effective Deposit Insurance Systems” (IADI, Basel, Switzerland, November 2014), that the DIS should not unnecessarily duplicate tasks already being http://www.iadi.org/en/assets/File/Core%20Principles/cprevised2014nov.pdf. done by other safety net participants, such as supervisory functions already being performed by the central bank. A DIS should however have analytical capacity in house to undertake risk monitoring of the banking sector and assess the viability of restructured banks to ensure frameworks in Nepal, Tunisia, and Uganda; improving prudential sufficient notice of emerging problems and adequate preparation. supervision and regulation in Albania, Mexico, Nicaragua, Rwanda, The Federal Deposit Insurance Corporation (FDIC) model,9 which and Sri Lanka; and bolstering crisis preparedness capabilities in combines deposit insurance with bank supervision and bank resolu- Mozambique, the Philippines, and Tunisia. tion powers, is often seen by countries as an attractive model for their For a country’s safety net to work, it must have a formal mecha- DIS. Although the FDIC model works for the United States, with its nism for continuous, close coordination and information sharing dual banking system, thousands of supervised institutions, and differ- among safety net participants. In some countries this mechanism ent federal supervisors for banks, it may not be suitable for many takes the form of a financial stability council (or committee), whose other countries. In other words, the distribution of powers and tasks might include the monitoring of risks to the financial sector, responsibilities among the financial safety net participants should crisis preparedness (contingency planning and crisis simulation), and reflect the capacity of the country as well as the size and complexity of crisis management (coordination and crisis communication). The the banking sector. This consideration is particularly important in developing countries that have fewer technical personnel to manage DIS should always be a full and active member of this institution, the safety net. Creating a second supervisor in a small country with regardless of its mandate. FIRST has supported many countries in the limited access to expertise might create unhealthy competition drafting of information-sharing and coordination arrangements, in between two authorities for the same rare talent and may not be the the form of laws, guidelines, and memorandums of understanding. most efficient use of scarce resources. Countries should therefore For example, in 2015 FIRST provided technical assistance to Paraguay consider starting with a simpler mandate. Then over time, as capacity to formalize the coordination and information sharing among safety is built and it is sensible to do so, they can enhance the mandate and net participants. The objective was to create a statutory forum to pro- let the DIS take over other functions such as bank resolution. mote coordination of financial stability initiatives and to harmonize Such an expansion of DIS roles has occurred in some countries as prudential norms across the various financial safety net members. the circumstances have changed. For example, in the aftermath of the FIRST supported the preparation of draft legislation and related reg- financial crisis, a number of deposit insurers saw their mandates ulations and guidelines for the establishment of a financial stability expand beyond depositor reimbursement to include certain resolu- council. The proposed composition of the council included the heads tion-related powers. In many cases, this expansion means that the of all regulatory agencies—the central bank, the Superintendence of DIS under a pay box plus mandate can now finance certain resolution Banks, the Superintendence of Insurance, the National Securities actions if those actions protect insured depositors. For example, they Commission, the National Institute of Cooperatives, the Deposit may enable the transfer of insured deposits to another bank through Guarantee Fund, and the Ministry of Finance. The mandate of the a purchase and assumption arrangement. proposed council will encompass (a) coordination of the actions of The Deposit Guarantee Fund (DGF) in Ukraine is one such case. the various institutions that have regulatory and supervisory powers The initial mandate was a pay box that was later expanded to include over the financial sector; (b) identification and evaluation of threats, resolution and liquidation powers. FIRST supported Ukraine’s June 2017 | Lessons Learned Series | 5 amendment of the DGF law and other related laws, the development preparing for payouts. FIRST is now providing support to operation- of an expanded resolution tool kit, and training and capacity building. alize the new entity and continues to offer crucial support during the The DGF now has full resolution authority under its law, and FIRST transition. In the case of Rwanda, FIRST supported the creation of the provided guidance on particular resolution options, including the Deposit Guarantee Fund, which is managed by the National Bank of establishment of a bridge bank and the use of the purchase and Rwanda and governed by an advisory committee appointed by the assumption tool. The support increased institutional capacity to man- minister of finance. FIRST provided technical assistance to draft the age failed banks by creating a consolidated office to centralize the necessary operational manuals and trained key staff. asset liquidation and management function in an effort to boost the asset recovery rate. FIRST also provided strategic advice to the DGF Lesson 5: An effective deposit insurance system is not on the best practices in asset tracking, pooling, and appraisal. free. The costs of establishing and managing a DIS are primarily borne by Lesson 4: Operational independence is more important a DIS’s member institutions, the banks and other deposit-taking insti- than institutional independence. tutions. A DIS needs start-up funding, ongoing funding, and emer- Policy makers have to decide not only which mandate to select for gency funding. Adequate funding allows for the prompt settlement of establishing a DIS but also how the DIS should be set up. The admin- depositor claims and is critical for the effectiveness and credibility of istrative and organizational structures of DISs vary across economies, the DIS and its role as a supporter of financial stability. To determine and the model a country chooses can have an important bearing on the adequacy of its deposit insurance fund and the sufficiency of the the DIS’s efficiency. In many countries the DIS is organized and set up premiums contributed by the banks, a DIS should establish a target as an independent legal entity, yet international best practice does not fund ratio (reserve ratio) based on “clear, consistent and well-devel- call for a DIS to be an independent entity. Rather, best practice sup- oped criteria.”10 In addition to the ex ante funding provided by banks, ports the operational independence of the DIS; that is, it should be emergency or contingency funding or a liquidity arrangement must able to use its powers and funds without undue influence from exter- be established to cover any shortfalls. These arrangements are usually nal parties. provided by the government or the central bank with a government A DIS needs to be well governed, transparent, and accountable, guarantee and should be paid back over a reasonable period. A DIS and it needs sufficient resources to be able to fulfill its mandate and without such backup funding is not an option. However, in many exercise its powers. In smaller jurisdictions with limited access to developing countries, backup funding and liquidity arrangements are needed technical capacity and resources, a case can be made for set- often insufficient or nonexistent. Further, procedures to develop such ting up the DIS within the central bank or the banking supervisor. A funding arrangements may often require parliamentary approvals. small banking sector that cannot contribute sufficiently to build up The resulting delays in reimbursing insured depositors could increase the deposit insurance fund as well as to pay for the administration of anxiety and create hardship for depositors and negatively affect confi- the DIS could also be an argument to not create a full-fledged new dence in the financial system and its safety net. organization. Good reasons for a country to start a DIS within a In practice, many DISs still do not have a target ratio methodology strong organization like the central bank include leveraging its public in place to determine their funding needs. In other cases, the method- trust, institutional independence, and legal protection (often con- ologies in place are outdated and no longer reflect current circum- ferred under constitutional provisions), as well as gaining access to its stances, such as inflation or the increase in deposits over time. Thus institutional capacity and expertise, such as human resources and some DISs might be underfunded. In some worst-case scenarios, this information technology (IT). The extensive IT needs of a deposit underfunding can lead to the need for government backup funding if insurer can be expensive to establish and maintain, so using the infra- the DIS funds are depleted through large payouts. As a result, deposit structure of the central bank can both create some efficiencies and insurance can end up being a huge fiscal liability for the government, allow the deposit insurer to concentrate on its main tasks: collecting because banks’ premiums may not be sufficient to stabilize the fund premiums from banks, informing the public about deposit insurance, and repay any backup funding. and preparing for deposit insurance payouts. To help countries better understand their DIS’s funding needs, Some countries have taken an evolutionary approach, allowing FIRST has supported deposit insurers in Colombia, Nigeria, the their systems to develop over time. For example, in Kenya, Tanzania, Philippines, and Zimbabwe with the development of appropriate and Uganda, as the necessary infrastructure and capacity has devel- methodologies to set a target fund ratio. oped, their institutional setup has changed and the DIS has become The Nigeria Deposit Insurance Corporation (NDIC) requested an independent institution. In Uganda, the authorities reformed the technical assistance from FIRST to develop a framework for deter- institutional setup of the Deposit Protection Fund (DPF), which was mining the deposit insurance fund’s target ratio and to provide NDIC part of the Bank of Uganda, to let the DPF emerge into an indepen- with the tools and knowledge to maintain and further develop the dent body. While the DPF had grown steadily over the years, the cen- model. The World Bank team worked with experts from the FDIC tral bank found it difficult to accommodate the many other tasks of and developed a model that used a credit risk approach to modeling running a deposit insurer, such as raising public awareness or deposit insurance losses. The model and the training provided allow 6 | Lessons Learned Series | June 2017 the NDIC to revise the target fund estimate on its own as industry In Ukraine, FIRST supported the DGF in drafting legislative conditions change. amendments to reduce the payout period, which in some cases was as A FIRST project in Ukraine supported the Deposit Guarantee long as 7 months, to 20 working days after announcing a bank insol- Fund (DGF) with the development of two funding models to calcu- vent. Other projects supported deposit insurers in strengthening their late its funding needs through (a) a model of forecasting DGF reve- payout capacity and planning processes. nues on the basis of risk-based premiums and (b) a probabilistic scoring model based on the probability of new bank failures. The two Lesson 7: The framework should not be static and should models are now being used by the DGF to calculate the target funding be subject to regular reviews. ratio, and they form the basis for requests of backup funding from the When a DIS framework is initially designed, countries make critical government. policy choices by considering the operating environment, country FIRST supported Fondo de Guarantías de Entidades Cooperativas circumstances, and nature of the financial sector at the time. But these (FOGACOOP) in Colombia to review its target fund size and the type conditions change over time, triggering the need to periodically reas- of premium (flat or differential) that is most suitable. FOGACOOP is sess and reform the system. The DIS framework should therefore not the administrator of deposit insurance for savers in the financial be seen as static but rather should be reevaluated from time to time to cooperative sector in Colombia. A stress-testing model was used for determine if it is in line with the latest developments. For example, the the empirical analysis to assess the adequacy of the fund. FIRST pro- reassessment of the level and the scope of coverage will ensure that vided training and capacity building to enable the authorities to con- the large majority of depositors stay fully protected while the system duct ongoing assessment of the fund’s adequacy. leaves a substantial proportion of the value of deposits unprotected so as not to undermine market discipline and mitigate moral hazard. Lesson 6: Preparing for payout is no small task. Thus, policy makers have to monitor the crucial link between ade- Probably the most fundamental and important task of every deposit quate coverage levels and the impact of increased coverage levels on insurer is making effective payouts. Yet it is a complex task that many the financing needs of the deposit insurance fund. Consequently, the DISs struggle with, even experienced ones. A DIS is mandated to level of ex ante funding should be periodically reviewed, and the make timely reimbursements to depositors when a bank is closed and methodology and approach used to determine the adequacy of the the deposit insurance system is triggered. Setting up a depositor reim- fund level should be validated. Especially following a financial crisis, bursement system requires strong technical expertise, capacity build- policy makers should review the DIS mandate, framework, and ing, access to information at member banks, systems development, funding. and cooperation and coordination with member institutions and other authorities. Achieving accurate, prompt payouts to depositors Conclusion should be the primary goal of every DIS, and it should be attained The recent financial crisis emphasized the fact that a DIS can play an before a DIS considers an expanded mandate. important role in reducing the likelihood of bank runs and maintain- Moreover, the DIS needs to continuously reassess the deposit ing financial stability by working in tandem with the other elements reimbursement arrangements and to strive for shorter depositor of the financial sector safety net. However, the developing countries reimbursement times, the benefits of which were very clearly seen in must exercise caution in determining when and how to implement a the recent financial crisis. Prompt and accurate reimbursement is deposit insurance framework. Experience has shown that implement- crucial to financial stability because it helps maintain public confi- ing a DIS in a weak environment will likely undermine the effective- dence, minimizes the likelihood of contagion, reduces disruption for ness of the scheme. Countries must ensure that the necessary depositors, and maintains the credibility of the DIS. IADI now pro- preconditions are in place. Furthermore, there is no one-size-fits-all motes a payout timeframe of seven working days, which is a challeng- approach to establishing a DIS. Countries must adapt design features ing goal for many DISs around the globe. Deposit insurers who are suited to their unique context to prevent unintended consequences, not currently meeting this target are asked to have a credible plan in such as the increase of moral hazard. Once a DIS is established, the place to do so in a reasonable timeframe. authorities have to regularly assess the framework to ensure that its Some of the most critical impediments of effective reimbursement public policy objectives are still in line with its operating environ- include poor quality and untimely access to depositor records, inade- ment. This will enable the DIS to become a central pillar of the finan- quate IT systems, and lack of resources to conduct a reimbursement. cial safety net and a key enabler of financial stability. Even with the best infrastructure, DISs need to be confident in their ability and processes to conduct a payout efficiently and capably. One Acknowledgments way to test operational readiness is through simulation exercises, The authors thank Consolate Rusagara, program manager of the which give authorities an opportunity to practice communication, FIRST Initiative, for guidance and supervision; Claire McGuire, coordination, and decision making and to test their systems in a Pramita Sengupta, and Ilias Skamnelos, for their peer reviews; and “near-live” crisis situation. Subita Gurbani for publication and editorial support. June 2017 | Lessons Learned Series | 7 Endnotes • A loss minimizer mandate, in which the insurer actively engages in 1. The safety net usually consists of prudential regulation and supervision, a selection from a range of least-cost resolution strategies when the a resolution framework, deposit insurance, and a lender-of-last-resort/ deposit insurer is also the resolution authority emergency liquidity assistance function by the central bank. • Finally, a risk minimizer mandate, in which the insurer has compre- 2. Deposit insurance is defined as a system that is established to protect hensive risk minimization functions that include risk assessment depositors against the loss of their insured deposits in the event that a and management, a full suite of early intervention and resolution bank is unable to meet its obligations to such depositors, according to powers, and in some cases, prudential oversight responsibilities, as the International Association of Deposit Insurers (IADI). found in the U.S. Federal Deposit Insurance Corporation (FDIC) 3. Asli Demirguc-Kunt, Edward Kane, and Luc Laeven, “Deposit Insur- model. ance Database.” (Policy Research Working Paper 6934, World Bank, 9. The United States has different regulators for its large number of de- Washington, DC, 2014), https://openknowledge.worldbank.org/han- posit-taking institutions. There are approximately 3,000 member dle/10986/18820. banks in the Federal Reserve System, and for those institutions the 4. Explicit deposit insurance is a system that offers limited protection to Fed is the primary federal regulator. The FDIC is the primary federal certain depositors on the basis of a clear legal framework. Implicit de- regulator for state-chartered, non-Fed member banks and savings as- posit insurance can be characterized as ad hoc measures by authorities sociations, of which there are about 3,700. The FDIC is also the deposit to protect depositors from any losses, often on an unlimited basis (for insurer and resolution authority for all insured institutions other than example, through a government bailout of banks). credit unions. 5. IADI is a forum for deposit insurers from around the world to share 10. “IADI Core Principles for Effective Deposit Insurance Systems,” Core knowledge and expertise. It provides training and educational pro- Principle 9, Essential Criteria 5. grams and produces research and guidance on matters related to de- posit insurance. See http://www.iadi.org. Resources 6. Those economies are Albania, Colombia, Kyrgyz Republic, Nepal, Nic- Demirgüç-Kunt, Asli, Baybars Karacaovali, and Luc Laeven. 2005. “De- aragua, Nigeria (2), the Philippines (2), Rwanda, Uganda, Ukraine (2), posit Insurance around the World: A Comprehensive Database.” Pol- Vietnam, West Bank and Gaza, and Zimbabwe. icy Research Working Paper 3628, World Bank, Washington, DC. 7. International Association of Deposit Insurers, “The IADI Core Prin- https://openknowledge.worldbank.org/handle/10986/8226. ciples for Effective Deposit Insurance Systems” (IADI, Basel, Switzer- Demirguc-Kunt, Asli, Edward Kane, and Luc Laeven. 2014. “Depos- land, November 2014), http://www.iadi.org/en/assets/File/Core%20 it Insurance Database.” Policy Research Working Paper 6934, World Principles/cprevised2014nov.pdf. Bank, Washington, DC. https://openknowledge.worldbank.org/handle 8. DIS mandates can be broadly classified into the following four categories: /10986/18820. • A pay box mandate, in which the deposit insurer is only responsible Financial Stability Board. 2012. Thematic Review on Deposit Insurance for the reimbursement of insured deposits once a bank is closed by Systems: Peer Review Report (Basel, Switzerland: FSB). http://www the supervisory agency or central bank .financialstabilityboard.org/publications/r_120208.pdf. • A pay box plus mandate, in which the deposit insurer has additional International Association of Deposit Insurers. 2014. “Core Principles for responsibilities. In most of these cases, the deposit insurer can be Effective Deposit Insurance Systems.” IADI, Basel, Switzerland, Novem- asked to finance certain resolution options that have the same effect ber. http://www.iadi.org/en/assets/File/Core%20Principles/cprevised as the reimbursement of deposits (for example, a purchase and as- 2014nov.pdf. sumption transaction of deposits) and are subject to a least-cost test GRAPHIC. Deposit Insurance Ecosystem 8 Preconditions Financial Safety Net ✔ Stable ✔ Sound and ✔ Prudential ✔ Lender of last ✔ Well-developed ✔ Bank resolution macroeconomic healthy banking regulation and resort/Emergency legal framework framework environment system supervision liquidity email pubrights@worldbank.org. | Lessons Learned Series | June 2017 Public Policy Objectives • To contribute to financial sector stability • To protect small depositors from loss of saving Design Options Mandate Institutional setup Members Start-up funding Ongoing funding Emergency funding Coverage • Pay box • As part of • All deposit • Member banks • Level of • Lines of credit • Type of • Pay box plus Central Bank/ banks Government premium from from the depositors • Loss minimizer Bank Supervisor • Other types of • International banks/financial government and scope of • Risk minimizer • Separate financial institu- donors institutions • Government deposits • Target fund ratio guarantee for institution tions Coverage level • Flat/risk based borrowing from premiums other sources Expanded Financial Sector Safety Net ✔ Prudential ✔ Lender of last ✔ Resolution Deposit Insurance Scheme regulation and resort/Emergency framework supervision liquidity © 2017 International Bank for Reconstruction and Development / The World Bank. 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